A cash-out refinance is a type of mortgage refinance that takes advantage of the capital you have accumulated over time and gives you cash in exchange for purchasing a larger mortgage. In other words, with a cash-out refinance, you borrow more than you owe on your mortgage and you keep the difference. This type of loan provides a lump sum when you close your refinance loan. The proceeds are first used to pay off your existing mortgages, including closing costs and any prepaid items (for example, real estate taxes or homeowners insurance).
All remaining funds are then given to you. Cash-out refinancing is a great way to access the equity you have built up in your home. You can refinance your mortgage and receive a check at closing. The balance due on your new mortgage will be greater than the previous one by the amount of that check, plus the closing costs included in the loan. You can borrow up to 80% of your home's net worth. For example, if refinancing your current mortgage means you can get a lower interest rate, and you'll use the cash to renovate your kitchen and bathrooms, you may be able to include loan costs in your new mortgage to avoid upfront closing costs.
However, this will likely result in a higher interest rate. Alternatively, you can access the equity in your home through a home equity loan. This is a second mortgage that allows you to borrow money against the net worth of your home. The net worth of your home fluctuates depending on the amount of repayment you have made for your home loan and how the market affects the value of your home. Another option is a reverse mortgage. This type of loan allows homeowners 62 and older to withdraw cash from their homes, and the balance does not have to be repaid as long as the borrower lives and maintains the home and pays their property taxes and homeowner's insurance. When considering a cash-out refinance, it's important to keep in mind that small amounts will not make refinancing possible due to final closing costs over the total loan amount.
Additionally, if you use a cash-out refinance to pay for something that will only last for a short period of time (such as a car), you could be paying off the loan for another 24 years. VA loans are an exception, as they allow you to get a cash loan for 100% of the value of the home. If you're considering refinancing but just need a little liquidity for a small project or to pay off a small debt, you can consider a small personal loan or a credit card with low interest rates. Typically, traditional cash-out refinances come with closing costs that can amount to hundreds or even thousands of dollars. Both a cash-out refinance and a home equity loan allow borrowers to leverage the net worth of their home, but there are some important differences. For this reason, it's best to use a cash-out refinance if you can also lower your overall mortgage rate or if you want to borrow a large sum. If you're considering taking out either type of loan, use Discover's Cashout Refinance Calculator to see how much money you can take out of your home and estimate how much you'll reduce your payments by consolidating your current debt.